Monday, February 20, 2017

My Kind of Fraudster: How Social Group Affects Responses to Misconduct

We know that shared identity is a tool used to gain the
confidence of people before defrauding them, and we suspect that it works
especially well for an identity strengthened by current discrimination or a
history of persecution. Bernard Madoff’s exploitation of the Jewish identity to
recruit for his Ponzi scheme is a recent example of how this is done, and many
more cases exist. An interesting follow-up question has rarely been considered,
though: what happens to the identity after the fraud has been discovered?

In a very creative and solid piece of research, ChristopherYenkey explores this issue in AdministrativeScience Quarterly. His case is one of a stock brokerage in Nairobi that
defrauded one-quarter of its clients (about 25,000 people). The clients were
from many ethnic groups, and the brokerage was clearly identified with one of
them. This is a dilemma for members of the defrauding (and also defrauded) ethnic
group: who should they trust, and how much? For those not part of the
defrauding group, the choice is easier: after the fraud, they trusted the group
affiliated with the brokerage less, and trusted the institution of stock
brokerages less, so they invested less than they had previously. This effect was strongest for ethnic groups
that were rivals of the ethnic group connected with the fraud, as opposed to
neutral ethnic groups.

But what about members of the ethnic group associated with
the fraudulent brokerage who had been personally defrauded? They made
interesting choices. Like everyone else, they invested less following the fraud—but
still more than neutrals, and definitely more than rivals. Shared ethnicity
cushioned the blow of the fraud. In a very promising investment opportunity
that happened soon after the fraud, those with shared ethnicity who had been
defrauded invested more than the others, suggesting that they may have been most
confident about trying to recover their lost money through investments.

The investors of different ethnicities also showed other
reactions to the fraud, such as starting to doubt brokerages and placing more
investments through banks, which could also act as stock market intermediaries.
Naturally the choice between organizational forms is not as personal as the
choice of ethnicity to transact with, so the movement away from brokerages was
seen for all ethnic groups. Still, it was again the rival ethnic groups that
moved the most, suggesting that the experience of being defrauded had the
biggest impact on their future actions.

Trust is personal, which is why social groups can make it
easier. Fraud is also a very personal experience, and affront, and reactions to
it show very clearly how boundaries in our society affect people’s responses to
each other and to organizations.

PS: I chose not to mention the name of the ethnic group
controlling the fraudulent brokerage in this post. Kenya is a place where
ethnic relations are sensitive because of power differences and a history that
involves violent events as well as periods of peace.